New York (CNN Business)Wells Fargo has gone from one of America's strongest big banks to easily the weakest.
For years, Wells Fargo's laundry list of scandals and legal problems had only a fleeting impact on its once-monstrous bottom line. That is no longer the case.
Wells Fargo (WFC) is the only major lender during the pandemic to lose money -- its first loss since the 2008 financial crisis. And that red ink was driven in large part by the crushing penalties imposed two years ago by the Federal Reserve for abusing customers.
Wells Fargo is such a mess that it's being forced to slash its coveted dividend. During the Great Recession, Wells Fargo was so strong that it was among the last of the banks to touch its dividend. Today, it's the first.
All banks (except maybe Goldman Sachs) are suffering because of the pandemic, which has caused mass unemployment, surging bankruptcies and a collapse in GDP.
But the fact that Wells Fargo is hurting so much more than its peers is its own fault. Just ask Charlie Scharf, the man hired last year to get the bank back on track.
"We are responsible for the position we're in," the Wells Fargo CEO told analysts Wednesday after detailing what he called "clearly a very poor quarter for us."
Wall Street agrees with that assessment. Wells Fargo's share price has collapsed by a staggering 54% this year, far worse than the 35% drop for the KBW Bank Index (BKX). Rivals including JPMorgan Chase (JPM) and Bank of America (BAC) are down around 30%.
Wells Fargo is still in the penalty box with the Fed
Wells Fargo is getting squeezed by the $2 trillion asset cap imposed by the Fed. Those unprecedented sanctions prevent Wells Fargo from growing its balance sheet -- at a time when growth is absolutely necessary because interest rates are at rock bottom.
Banks make money off the spread between interest charged on loans and what is paid out on deposits. Right now, that spread is very narrow, making it challenging to make money. One way to outrun low rates is to simply lend more, as JPMorgan Chase and Citigroup (C) are doing.
But Wells Fargo can't because of the asset cap. That's why its net interest income, a key metric of profitability for banks, tumbled 13% quarter-over-quarter. JPMorgan's, on the other hand, dipped only 4%.
Scharf acknowledged these "constraints" have limited the bank's ability to offset the pain of low rates. But he didn't blame the Fed, which has refused to lift the sanctions until Wells Fargo cleans itself up.
"The balance sheet cap exists because leadership failed to both oversee and build the appropriate infrastructure of the company," Scharf said. "Our financial underperformance is because leadership didn't make the difficult decisions necessary."
Wells Fargo has focused on these issues by revamping its corporate risk operation, including by hiring external executives.
Still settling disputes with customers
But it's not just about the asset cap.
Wells Fargo's operating losses jumped by $755 million during the second quarter because of "increased customer remediation accruals for a variety of matters and higher litigation accruals."
In other words, the bank is still paying the price for its history of scandals in the form of customer refunds and legal settlements.
It's not entirely clear which of Wells Fargo's many controversies these costs relate to.
Wells Fargo admitted its workers opened millions of fake bank and credit card accounts to meet wildly unrealistic sales goals. The bank has also said it forced thousands of borrowers to pay for auto insurance they didn't need. Some of them even had their vehicles wrongfully repossessed. And it imposed unwarranted fees on potential homebuyers to lock in mortgage rates.
On top of that, Wells Fargo has been accused of mistreating workers by retaliating against whistleblowers and forcing employees to work overtime without extra pay.
Asked by CNN Business what the "remediation" refers to, John Shrewsberry, Wells Fargo's chief financial officer, said during a conference call with reporters that it's not directly related to the millions of fake accounts that were opened.
"It's a range of things that have been part of our public disclosures the past few years," he said.
Shrewsberry said that Wells Fargo's new management has done a review of outstanding matters and is taking a "more generous view" in favor of customers to "reach a conclusion more quickly."
It's striking that nearly four years after Wells Fargo's scandals erupted, it's still trying to resolve disputes with customers.
"I do think the worst is over," Shrewsberry said. "It should be the end of it from my perspective."
Wells Fargo's deep dividend cut
But the pain isn't over for employees and shareholders.
Wells Fargo expects to slash its dividend by 80% -- far more than analysts had anticipated.
"We're extremely disappointed to take this action and do understand that many rely on this stream of income," Scharf said during the call.
Some fear Wells Fargo's earnings have eroded so sharply that it will need to take further action. The Fed is requiring banks to limit payouts to a four-quarter average of their net income.
Brian Kleinhanzl, analyst at KBW, warned clients in a note Tuesday that Wells Fargo's dividend could shrink further because "there is not much breathing room."
KBW trimmed its earnings estimates on Wells Fargo, not just for this year but for 2021 and 2022, too. And it warned of "further downside risk" if the asset cap isn't lifted by this time next year. Fed chair Jerome Powell has been highly critical of Wells Fargo.
"The near-term fundamental outlook remains more challenged" for Wells Fargo than its peers, Kleinhanzl wrote.
Here come the job cuts
Not surprisingly, Wells Fargo's struggles could force some serious belt tightening.
"We've been extremely inefficient for too long," Scharf said.
The Wells Fargo boss said the multiyear cost-cutting effort will begin soon, with a goal of making the bank as efficient as its peers by slashing around $10 billion of expenses.
Part of that will be done by shutting down branches. Wells Fargo listed 5,300 retail branches at the end of the second quarter, down from a peak of 6,300 years ago, and that figure could eventually drop to 4,000.
But Shrewsberry, the Wells Fargo CFO, said branches and front-line branch workers are not going to play a "huge part" in the cost cutting because they are not the most expensive pieces of the company.
Still, he acknowledged job cuts are coming.
"A big piece of it will ultimately be people because such a large part of our expense structure is personnel," Shrewsberry said.
That means Wells Fargo's financial problems will ultimately punish employees.
